Canadian National Railway Inc. and Illinois Central Corp. confirmed merger talks that could stretch a single railroad's lines across North America, linking the Canadian tundra with tropical cities in Mexico.

The plan under discussion apparently calls for CN to pay $38 to $39 a share for Illinois Central in a transaction that would be valued at between $2.35 billion and $2.41 billion. CN's offer includes 75 percent in cash and 25 percent in stock.If the merger occurs, the linkup would become the fourth major rail merger in barely 30 months. The current round of rail merger mania began with the Burlington Northern-Santa Fe linkup, which was announced in mid-1994, followed by Union Pacific-Southern Pacific in 1996 and the pending carve-up of Conrail Inc. between CSX Corp. and Norfolk Southern Corp., announced last year.

If the two companies complete a deal, the combined carrier's $3.7 billion in revenue would generate at least $900 million in operating income, based on 1997 results.

That level of efficiency, with expenses equaling just 75 percent of revenue, would put the company in the top rank of North American railroads. In size, the combined carrier would rank fifth if the breakup of Conrail between CSX and NS gains the expected regulatory approval.

''I'm not quite sure I know why they are doing it,'' said Steve Lewins, an analyst at Gruntal and Co. ''There is an (commercial) alliance with IC anyway. There are not a lot of revenue synergies. Maybe this thing will only stay in the discussion stage.''

He pointed out that CN's purchase price is nearly 3.5 times IC's revenue. The price for the UP and BNSF deals were less than twice the revenue of the company being bought. A feverish bidding war forced CSX and NS to pay 2.6 times Conrail's revenue.


A merger between Montreal-based CN and Chicago-based Illinois Central has been discussed several times in recent months.

The first hint that IC again was a merger target came earlier this week when the company's stock price began to rise and trading volume increased sharply.

By Thursday afternoon, IC's stock price hit 36 3/4, up 3/4 for the day.

Neither company would elaborate on brief statements acknowledging the existence of talks.

A similar stock surge last spring sparked speculation that the same two companies were in merger talks. Neither company denied that speculation at the time, but no deal was struck.

The stock price appreciated last spring to nearly the same level, the upper $30-a-share range, that seems to be the basis for the deal now under discussion.

Unlike other recent rail mergers, where companies served many of the same routes and customers, IC and CN's tracks touch in only one place, on Chicago's South Side. The developing commercial relationship between the companies at Chicago fueled rumors last year, but the two railroads apparently exchange far fewer carloads than other recent merger partners.

At the same time, IC has signaled its intention to be an active player in bidding for a concession to operate rail lines in southeastern Mexico that are to be privatized later this year.


A successful merger would pressure Canadian Pacific Railway, CN's longtime rival, to make a strategic countermove. A merger also could force Wisconsin Central Transportation Co. - a regional carrier whose tracks link Chicago with Michigan, Wisconsin and Ontario - to find a partner.

Illinois Central, a North-South carrier with 2,600 miles of track and $700 million in annual revenue, would appear to be a smooth fit into the far-larger CN, whose 1997 sales were 4.3 billion Canadian dollars (US$3.01 billion).

CN's rail system sprawls over more than 15,000 miles of track that connects Nova Scotia with British Columbia and links all major cities between the oceans. CN owns a web of grain-hauling lines in the Prairie Provinces and has hacked off thousands of miles of track reaching remote communities like Churchill, Manitoba and Hay River in the Northwest Territories.

IC's commercial spine connects Chicago and New Orleans, but that route has key appendages reaching into Iowa, Louisiana and Mississippi that produce substantial chemical, paper and grain traffic.


The two companies have pursued similar strategies in recent years that sharply boosted profit and jettisoned surplus track, employees and facilities.

At one time, IC had nearly 10,000 miles of track and was barely profitable. A series of line sales slashed its route network by 70 percent between the mid-1980s and the early 1990s.

Last year, IC captured nearly 40 cents of every revenue dollar as operating income. During the past five years, its operating ratio - expenses divided by revenue - declined nearly 10 percentage points.

CN's turnaround over the past five years also has been dramatic.

In 1992, the railroad was a Crown Corporation with 20,000 route miles, more than 33,000 employees and barely C$100 million in operating profit.

By early 1998, CN had trimmed one-third of its work force and boosted operating income nearly nine times to more than C$900 million on a modest 10 percent revenue increase. The operating ratio improved from 97.1 percent, to 80 percent.

Profitability and productivity accelerated at CN after the company's stock was sold in a public offering less than two years ago.

The primary commodities hauled by CN include industrial products, forest products and intermodal traffic. Each group represents approximately 20 percent of revenue.

IC's largest commodity groups are agricultural products, coal and chemicals.